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FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred.

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Presentation on theme: "FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred."— Presentation transcript:

1 FREE CASH FLOW VALUATION Presenter Venue Date

2 FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred stockholders Free Cash Flow to Equity = Cash flow available toCommon stockholders

3 FCFF VS. FCFE APPROACHES TO EQUITY VALUATION Equity Value FCFF Discounted at WACC – Debt Value FCFE Discounted at Required Equity Return

4 FCFF VS. FCFE APPROACHES TO EQUITY VALUATION

5 SINGLE-STAGE FREE CASH FLOW MODELS

6 EXAMPLE: SINGLE-STAGE FCFF MODEL Current FCFF $6,000,000 Target debt to capital 0.25 Market value of debt$30,000,000 Shares outstanding 2,900,000 Required return on equity12.0% Cost of debt7.0% Long-term growth in FCFF5.0% Tax rate30%

7 EXAMPLE: SINGLE-STAGE FCFF MODEL

8

9 USING NET INCOME TO DETERMINE FCFF

10 OTHER NONCASH ADJUSTMENTS Added back Amortization Added back Restructuring Expense Subtracted out Restructuring Income Subtracted out Capital Gains Added back Capital Losses Added back Employee Option Exercise Added back? Deferred Taxes Subtracted out? Tax Asset

11 USING EBIT AND EBITDA TO DETERMINE FCFF

12 USING CASH FLOW FROM OPERATIONS TO DETERMINE FCFF

13 CALCULATING FCFE FROM FCFF, NET INCOME, & CFO

14 FCFE & FCFF ON A USES OF FCF BASIS

15 EXAMPLE: CALCULATING FCFF EBITDA$1,000 Depreciation expense$400 Interest expense$150 Tax rate30% Purchases of fixed assets$500 Change in working capital$50 Net borrowing$80 Common dividends$200

16 EXAMPLE: CALCULATING FCFF FROM NET INCOME

17 EXAMPLE: CALCULATING FCFF FROM EBIT AND EBITDA

18 EXAMPLE: CALCULATING FCFF FROM CFO

19 EXAMPLE: CALCULATING FCFE FROM FCFF, NET INCOME, & CFO

20 EXAMPLE: CALCULATING FCFE & FCFF ON A USES BASIS

21 FORECASTING FCFF & FCFE

22 EXAMPLE: FORECASTING FCFF & FCFE Sales$4,000 Sales growth$200 EBIT$600 Tax rate30% Purchases of fixed assets$800 Depreciation expense$700 Change in working capital$50 Net income margin10% Debt ratio40%

23 EXAMPLE: FORECASTING FCFF & FCFE

24 EXAMPLE: FORECASTING FCFF

25 EXAMPLE: FORECASTING FCFE

26 ISSUES IN FCF ANALYSIS Financial Statement Discrepancies Dividends vs. FCFEEffect of Shareholder Cash Flows & Leverage FCFF & FCFE vs. EBITDA & Net IncomeCountry Adjustments Sensitivity Analysis Nonoperating Assets

27 SIMPLE TWO-STAGE FCF MODELS

28 EXAMPLE: SIMPLE TWO-STAGE FCFE MODEL Current sales per share$10 Sales growth for first three years20% Sales growth for year 4 and thereafter5% Net income margin10% FCInv/sales growth40% WCInv/sales growth25% Debt financing of FCInv and WCInv growth30% Required return on equity12.00%

29 EXAMPLE: SIMPLE TWO-STAGE FCFE MODEL

30 Year 12345 Sales growth in % 20% 5% Sales per share$12.000$14.400$17.280$18.144$19.051 EPS $1.200 $1.440 $1.728 $1.814 $1.905 FCInv per share $0.800 $0.960 $1.152 $0.346 $0.363 WCInv per share $0.500 $0.600 $0.720 $0.216 $0.227 Debt financing per share $0.390 $0.468 $0.562 $0.168 $0.177 FCFE per share $0.290 $0.348 $0.418 $1.421 $1.492 Growth in FCFE 20.0% 240.3% 5.0%

31 EXAMPLE: SIMPLE TWO-STAGE FCFE MODEL

32 DECLINING GROWTH TWO-STAGE FCFE MODEL Competition Later Increases Earnings growth slows Capital expenditures decline FCFE increases Initially High earnings growth Large capital expenditures Low or negative FCFE

33 EXAMPLE: DECLINING GROWTH TWO-STAGE FCFE MODEL Current EPS$1.00 WCInv/FCInv40% Debt financing of FCInv and WCInv growth30% Required return on equity12% EPS and FCInv growth for year 5 and thereafter5%

34 EXAMPLE: DECLINING GROWTH TWO-STAGE FCFE MODEL Year 12345 EPS growth30%21%13%8%5% FCInv per share $1.50 $1.25 $1.00 $0.75 $0.50

35 EXAMPLE: DECLINING GROWTH TWO-STAGE FCFE MODEL

36 Year 12345 EPS $1.300$1.573$1.777$1.920$2.016 FCInv per share $1.500$1.250$1.000$0.750$0.500 WCInv per share $0.600$0.500$0.400$0.300$0.200 Debt financing per share $0.630$0.525$0.420$0.315$0.210 FCFE per share–$0.170$0.348$0.797$1.185$1.526

37 EXAMPLE: DECLINING GROWTH TWO-STAGE FCFE MODEL

38

39 EXAMPLE: THREE-STAGE FCF MODELS Current FCFF in millions$100.00 Shares outstanding in millions 300.00 Long-term debt value in millions$400.00 FCFF growth for years 1 to 330% FCFF growth for year 424% FCFF growth for year 512% FCFF growth for year 6 and thereafter5% WACC10%

40 EXAMPLE: THREE-STAGE FCF MODELS Year 123456 FCFF growth rate 30% 24% 12% 5% FCFF$130.0$169.0$219.7$272.4$305.1$320.4 PV of FCFF$118.2$139.7$165.1$186.1$189.5

41 EXAMPLE: THREE-STAGE FCF MODELS

42

43 SUMMARY FCFF = Cash flow available to all firm capital providers FCFE = Cash flow available to common equityholders FCFF is preferred when FCFE is negative or when capital structure is unstable FCFF vs. FCFE Discount FCFF with WACC Discount FCFE with required return on equity Equity value = PV(FCFF) – Debt value or PV(FCFE) Equity Valuation with FCFF & FCFE

44 SUMMARY Depreciation, amortization, restructuring charges, capital gains/losses, employee stock options, deferred taxes/tax assets Adjustments for Calculating Free Cash Flows Sources – adjust for noncash events and work from … Net income EBIT EBITDA CFO Uses Δ in Cash balances and net payments to debtholders and stockholders Approaches for Calculating FCFF & FCFE

45 SUMMARY Financial statement discrepancies Dividends vs. free cash flows Shareholder cash flows and leverage FCFF & FCFE vs. EBITDA & Net income Country adjustments Sensitivity analysis Nonoperating assets Issues in FCF Analysis

46 SUMMARY Forecast sales growth Assume EBIT margin, FCInv, and WCInv are proportional to sales For FCFE, assume debt ratio is constant Forecasting FCFF & FCFE Two-stage with distinct growth in each stage Two-stage with declining growth from stage 1 to 2 Three-stage model FCF Valuation Models


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